Introduction

Nearly two decades after the collapse of apartheid, South Africa is a pluralistic democracy with a robust free press, an independent judiciary, and a commitment to the rule of law. The country'smixed economy is the largest—and arguably least risky for investors—on the continent, with deep capital markets and highly developed financial services. Yet despite the great advances of the past twenty years, the economic circumstances of most South Africans have remained largely unchanged. Income inequality, a legacy of apartheid-era education policies, remains the greatest challenge facing South Africa today, experts say.

The failure of the governing African National Congress to deliver on itseconomic promises has fueled social unrest and poses a threat to its leading economic and political position in Africa. South Africa's lucrative mining industry has recently been hit by a series of deadly riots over wages, hurting its export markets and alienating foreign investors.

Post-Apartheid Challenges

Nelson Mandela's victory in South Africa's first multiracial, democratic elections in 1994 inspired high expectations—both within South Africa and around the world—for a more equitable society. But the reality was more complicated. For the sake of a peaceful and inclusive transition to democracy inthe early 1990s, the ANC left in placepolitical and business structures, including the white minority's ruling NationalParty. Many institutions were not reformed to make them more accessible to the majority, disadvantaged black population. "The transition was essentially a deal between the old regime and the anti-apartheid opposition, and the old regime was not destroyed," says CFR's John Campbell. White South Africans, Campbell says, retained property rights, their pensions, and control over much of the economy. While this allowed for a nonviolent changeover to democratic rule, it made it more difficult to implement a comprehensive social-economic overhaul of a deeply unequal society.

South Africa currently has a population of nearly fifty-two million people, of which 79.2 percent are black and the rest white, "colored," and of Asian origin, according to the country's 2011 census.

"The transition was essentially a deal between the old regime and the anti-apartheid opposition, and the old regime was not destroyed." —John Campbell, Council on Foreign Relations

In the first decade after apartheid, South Africa experienced annual economic growth of around 3.4 percent [PDF] and an overall reduction in poverty. However, despite these trends—and the government's highly redistributive economic policies—income disparities grew. "Simply put, while the democratic period has delivered declining poverty levels, it has also been marked by a significant rise in aggregate income inequality," wrote the University of Cape Town's Haroon Bhorat and Carlene Van Der Westhuizen in "Poverty, Inequality, and the Nature of Economic Growth in South Africa" [PDF], a paper published in late 2012. A 2012 World Bank report on South Africa, "Economic Update: Focus on Inequality of Opportunity" [PDF], said: "The top decile of the population accounts for 58 percent of the country's income, while the bottom decile accounts for 0.5 percent and the bottom half less than 8 percent."

Bhorat and Van Der Westhuizen suggested that pervasive inequality threatens to destabilize the country. "Persistent high levels of inequality have resulted in serious challenges to democracy. Specific outcomes range from a decline in the willingness of citizens to support democracy to actual reversal of democracy," they wrote. The authors cite a 2008 study by Ethan B. Kapstein and Nathan Converse on the impact of poverty and inequality ondemocratization attempts around the world between 1960 and 2004, in which they noted, "While sub-Saharan Africa has been the site of nearly twice as many democratizations as any other region, 63 percent of democratization episodes there have ended in reversal."

Connected to income inequality, South Africa's other major challenge remains the failure of the education system for most black citizens, which has fed pervasive structural unemployment, says the Brookings Institution's Julius Agbor. "There are a huge mass of black people with access to the labor market, but without the skills to take up those jobs," Agbor says. The government has also failed to provide sufficient vocational training for black workers looking to acquire new skill sets, particularly in the fields of carpentry, electrical work, and plumbing. The result, Agbor says, is a "fundamental productivity gap" between blacks and whites.

There remains a large gap between primary and secondary schools that were formerly designated for black South Africans and those for white South Africans. "Teachers in black state schools work an average of 3.5 hours a day, compared with 6.5 hours in the former white state schools," while only one out of six South Africans advances to the university level, reported the Economist. In 2008, 1.4 percent of working-age blacks [PDF] had completed university, while nearly 20 percent of working-age whites had a degree, according to an OECD report.

Slow Growth, High Unemployment

South Africa's annual GDP growth slowed to 2.5 percent in 2012, down from 3.1 percent in 2011, according to the World Bank. The weaker-than-expected growth was a result of a continued slowdown in the EU (due to the ongoing eurozone crisis) and China, South Africa's two primary export partners. The government said it will need growth rates around 7 percent to alleviate unemployment and poverty, the Financial Times reported in early 2013. Without such growth rates, South Africa has been unableto "absorb the wave of new entrants to the labor market from dismantling apartheid's barriers," the World Bank said. This was not always the case. In the decade after apartheid, South Africa experienced a substantial increase in labor market participation, with the labor force growing at around 5.2 percent [PDF] annually between 1995 and 2002, said the OECD.

Experts describe the situation as a vicious circle: Slow growth is limiting employment opportunities, even as an unqualified labor force is holding back growth prospects. As CFR's Campbell explains, "South Africa's growth prospects will be held back until the issue of black education is addressed more satisfactorily."

South Africa's "skills base is extraordinarily narrow," says Rhodes University's Gavin Keeton. "Teachers aren't teaching," he says, "and if schools perform badly, there are no consequences." Keeton in part blames South Africa's powerful trade unions, which limit the government's ability to hold teachers accountable by providing concrete incentives and penalties.

The World Bank cites high inequality as being the central factor in South Africa's "inability to create employment opportunities on a large enough scale." Today, official South African unemployment hovers around 25 percent, while youth unemployment is nearly double that figure. In addition to a skills and education deficit, structural inflexibility in the labor market has also contributed to the chronically high unemployment level. Similarly, "the militant trade union movement has been a major problem for small business employers," argues Keeton. The legal hurdles created by the unions, Keeton says, disincentivize small businesses from expanding.

Unions proved instrumental in the anti-apartheid struggle and have played an outsized role in contemporary South African political life. However, deadly strikes in the country's lucrative platinum mining belt in 2012 and 2013 highlighted the negative side of union power in South Africa. A bitter rivalry between two mining unions comprised much of the violence at the mines, contributing to reduced output, slowed economic growth, and a downgrade of the country's sovereign debt. As of February 2013, there were 191 registered trade unions in South Africa.

Economic Leadership

South Africa's "economic weight in the region," wrote the IMF's Abebe Aemro Selassie, "resembles that of Germany in the euro area. South African companies have extensive investments in sub-Saharan African sectors such as finance, retail, and telecommunications that are important drivers of economic activity." South Africa's economy, far less reliant on commodities and more diversified than others in the region, is an important anchor of economic stability in sub-Saharan Africa.The driving sectors of South Africa's economy over the past two decades have been mining and manufacturing, agriculture, and financial services. However, the country has arguably failed to augment those industries through investment—particularly in the area of mining and manufacturing—and solidify its economic leadership role in sub-Saharan Africa.

"The economy is very dependent on primary and primary-processed products," says Zavareh Rustomjee, an independent South African consultant and former adviser to the Ministry of Trade and Industry and the Ministry of Minerals and Energy. "The productive capacity of the country is linked to mining and mineral processing," Rustomjee says.

"There are a huge mass of black people with access to the labor market, but without the skills to take up those jobs." —Julius Agbor, Brookings Institution

Yet South African industry has not invested in labor-intensive facilities that would use the raw commodities to develop secondary products and bolster its domestic market. South Africa has failed to implement a "well-targeted industrial policy aimed at light manufacturing," says Brookings' Agbor. The lack of a solid industrial base has allowed the market to be flooded with inexpensive goods from India and China. Agbor believes that if South Africa invested more in textiles and light manufacturing, it could help to alleviate youth unemployment and move the country along a path toward more equitable growth.

The growth trajectory is "based on a dependence on heavy manufacturing, the resources sector, and foreign equity to finance the current account deficit," the University of Cape Town's Bhorat said in an April 2013 interview with Agbor. Bhorat called for developing a "more labor intensive and competitive growth path" by focusing on supply- and demand-side policies, increased wages, and deregulated product markets. "Africa's largest economy remains locked into a low-growth trap within a continent with some of the world's fastest-growing economies," Bhorat added.

Under such circumstances, South Africa risks getting left behind as growth in other African countries accelerates, some experts say. The sub-Saharan African region grew by 5.3 percent in 2012 and is projected to grow by at least the same figure in 2013, according to the International Monetary Fund. In 1994, South Africa comprised 50 percent of sub-Saharan Africa's GDP, while today it makes up only 35 percent, Rhodes's Keeton says. Nigeria, Keeton says, poses the biggest threat to South Africa's dominant economicpositionon the continent and its attendant political weight in Africa and around the globe. Nigeria's economy grew by 7.3 percent in 2011, was down to 6.3 percent in 2012, and is projected to return to growth above 7 percent in 2013, the IMF predicts.

However, some experts caution against taking sub-Saharan growth statistics at face value. In the 2013 book Poor Numbers, Morten Jerven said the underlying data for GDP in sub-Saharan Africa are often reached through inconsistent and inaccurate "methods of measurement and aggregation." Another important global measuring stick, the United Nations' 2013 Human Development Index, ranked South Africa 121 out of 187 countries and territories, while Nigeria had a ranking of 153.

Still, it is clear that South Africa is falling short of its full economic potential—both on the continent and vis-à-vis other major global south countries. While South Africa joined the informal BRIC group (now BRICS) of leading developing nations—Brazil, Russia, India, and China—in early 2011, its economy is quite limited compared to these other emerging markets. South Africa, unlike Nigeria, was not included in Goldman Sachs's 2005 "Next Eleven" predictionof the largest economies beside BRIC states that could significantly affect the global economy. This indicates "skepticism about its ability to match economic potential with its hitherto inflated political influence on the global stage," wrote Queen's University's Stefan Andreasson in a 2011 essay for Third World Quarterly [PDF].

Unless South Africa addresses its high level of inequality and low competitiveness, Andreasson argued, "it will become increasingly difficult for the country to claim leadership in Africa and to manage its gap between diplomatic stature based on international approval and economic performance based on domestic realities."